What Should You Expect from Your Investments?
To help achieve your financial goals, you may need to invest in the financial markets throughout your life. However, at times your investment expectations may differ from actual returns, triggering a variety of emotions. So, what are reasonable expectations to have about your investments?
Ideally, you hope that your investment portfolio will eventually help you meet your goals, both your short-term ones, such as a cross-country vacation, and the long-term ones, such as a comfortable retirement. But your expectations may be affected by several factors, including the following:
• Misunderstanding – Various factors in the economy and the financial markets trigger different reactions in different types of investments, so you should expect different results. When you own stocks, you can generally expect greater price volatility in the short term. Over time, though, the “up” and “down” years tend to average out. When you own bonds, you can expect less volatility than individual stocks, but that’s not to say that bond prices never change. Generally, when interest rates rise, you can anticipate that the value of your existing, lower-paying bonds may decrease, and when rates fall, the value of your bonds may increase.
• Recency bias – Investors exhibit “recency bias” when they place too much emphasis on recent events in the financial markets, expecting that those same events will happen again. But these expectations can lead to negative behavior. For example, in 2018, the Dow Jones Industrial Average fell almost 6%, so investors subject to recency bias might have concluded it was best to stay out of the markets for a while. But the Dow jumped more than 22% the very next year. Of course, the reverse can also be true. In 2021, the Dow rose almost 19%, so investors who might have been susceptible to recency bias may have thought they were in for more big gains right away — but in 2022, the Dow fell almost 9%. Here’s the bottom line: Recency bias may cloud your expectations about your investments’ performance, and it’s essentially impossible to predict accurately what will happen to the financial markets in any given year.
• Anchoring – Another type of investment behavior is known as “anchoring” — an excessive reliance on your original conviction in an investment. So, for instance, if you bought stock in a company you thought had great prospects, you might want to keep your shares year after year, even after evidence emerges that the company has real risks. For example, poor management, or its products could become outdated, or it could be part of an industry that’s in decline. But if you stick with your initial belief that the company will inevitably do well, and you’re not open to new sources of information about this investment, your expectations may never be met.
In many areas of life, reality may differ from our expectations, and that can certainly be true for our investments. Being familiar with the factors that can shape your expectations can help you maintain a realistic outlook about your investments.
At some point, you may have more money in your 401(k) than in any other investment. And even though your 401(k) is intended for your retirement, you may one day think you have to tap into your account early — but should you? And if you do, how should you go about it?
Should you consider 401(k) loans or withdrawals?
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f it’s possible to avoid taking money from your 401(k) before you retire, you probably should do so. You could spend 25 or more years in retirement, and you’ll need to pay for those years, so you may want to look for alternatives to your 401(k). If you’ve built an emergency fund containing several months’ worth of living expenses in cash or cash equivalents, you could use some of this money. If you have a Health Savings Account (HSA), you could use it to pay for qualified medical expenses. Or you could sell some of your taxable investments, rather than going into your tax-deferred 401(k).
But if you have determined that you must look at your 401(k) plan to meet a short-term funding need, you’ll want to carefully consider how to go about it. You typically have two main choices: loans or withdrawals.
For plans that allow loans, employees can generally borrow up to 50% of the vested amount of their 401(k)s, up to a maximum of $50,000 within a 12-month period. Administrative fees may apply, and Interest will be charged, but it will be added back to the 401(k) account as part of the loan repayments. Except when they’re used for a home purchase, loans must be repaid within five years, with equal payments made at least quarterly, unless payments are allowed to be paused temporarily. If you leave the company or don’t repay the loan according to the agreement, the loan balance will likely be treated as a taxable distribution.
Now, let’s consider withdrawals. For 401(k) plans that allow current employees to make withdrawals, the withdrawal requests are usually considered either hardship or non-hardship. To qualify for a hardship withdrawal, you must demonstrate an immediate and heavy financial need to pay for certain expenses, including a home purchase, college, a medical issue or other specified costs, and your withdrawal is limited to the amount necessary to meet the need. Non-hardship withdrawals can typically be taken for any purpose but usually are not granted until you’re 59½ or older.
Unlike with a loan, a hardship withdrawal can’t be repaid, while a non-hardship withdrawal can usually only be repaid by rolling over the amount to an IRA within 60 days. But the bigger issue may be taxes. If you withdraw funds from your 401(k), any previously untaxed money is generally taxed as ordinary income and a 10% penalty will apply if you’re younger than 59½, unless you qualify for an exception. Plus, your 401(k) plan typically must withhold 20% of the withdrawal for taxes, so you’d have to take an even larger withdrawal to meet your needs.
Before embarking on a 401(k) loan or withdrawal, you may want to consult with a financial professional and your tax advisor. Taking money from your 401(k) is a big move, so make sure you know everything that’s involved.
These articles were written by Edward Jones for use by your local Edward Jones Financial Advisor.
Edward Jones, Member SIPC
